Martin Wolf: Wealth without power

TUESDAY JULY 1 1997

At its peak, the British empire possessed a quarter of the world's population and land mass. Within China's frontiers now lives a fifth of the word's people. But Hong Kong, the juicy bone that has just been passed from the former to the latter, is richer than either. This is a big fact about a small place - one with important lessons.

In 1995, according to the World Bank, Hong Kong's real income per head (at purchasing power parity) was US$22,950 (£13,909). This was 20 per cent higher than that of the UK and almost eight times as high as mainland China's. Of the advanced economies, only the US and Switzerland had higher real incomes per head. Yet Hong Kong has no large internal market; it belongs to no preferential trading bloc; and it employs no trade protection. It is a rock whose only natural endowment is its harbour. But it owns the resource that matters most: an active and enterprising people.

The quality of a people is not itself enough. A successful economy also needs benign policies and efficient institutions. So when China boasts that Hong Kong's return marks the end of a national disgrace, Britain can respond that Hong Kong's 6.2m Chinese have enjoyed better government and greater opportunities than Beijing has yet provided for its own people. If this is disgrace, whose is it?

The fascinating new World Development Report from the World Bank shows that in countries with good governance and sound policies real income per head grew at 3 per cent a year between 1964 and 1993*. With reasonable policies, but poor government, growth per head was only 1.4 per cent. In countries with neither it was a mere 0.4 per cent. The state possesses the monopoly of legitimate force. A benevolent and competent monopolist is almost as fabulous as the unicorn. Hong Kong's government has been both.

The colony's success also underlines the value of open international trade. Adam Smith argued that "were all nations to follow the liberal system of free exportation and free importation, the different states into which a great continent was divided would so far resemble the different provinces of a great empire". Politically, Hong Kong belonged to the British empire. Its economic domain was the world.

The mainland only started to prosper once Deng Xiaoping allowed it to become a relatively open trader, instead of a closed territorial empire. China's growth soared as trade in goods and services jumped from 5 per cent of gross domestic product at market prices in 1970 to 40 per cent in 1995.

Openness to trade does more than allow prosperity. It divorces economic opportunity from power. This classical liberal insight has been rediscovered by Professor Alberto Alesina of Harvard University and several associates. In the latest of a series of papers, the authors argue that "trade liberalisation and political separatism go hand in hand. . . . In a world of free trade and global markets even relatively small cultural, linguistic or ethnic groups can benefit from forming small and homogeneous political jurisdictions that peacefully trade and are economically integrated with others".**

Openness to trade tends to make a country richer. Indeed, the principal difference between small countries and big ones at a given level of income per head is that the little ones trade more. The obvious alternative to trade is to expand the country, by merger or conquest. But the benefits of greater size become less important as states become more open to trade. "Open countries are able to reap the benefits of access to a large market, thereby avoiding the costs associated with being small," argue Prof Alesina and associates.

Such small, open economies can also avoid the costs of size. The larger the state the more heterogeneous it tends to be. The combination of size with heterogeneity creates big difficulties: the citizens are more likely to be unhappy over policies they are forced to share; organised interests are more likely to dominate politics; and the government is more likely to prove remote and unaccountable.

Today, 10 countries have populations of over 100m. Only two, the US and Japan, are rich. But the US is exceptional for its historic combination of small government with individual liberty, while Japan is unusual for its compact size and homogeneity. The rest of the group - China, India, Indonesia, Brazil, Russia, Pakistan, Bangladesh and Nigeria - are remarkable mainly for their modest incomes and the difficulties their governments have in achieving coherence and maintaining control.

Similarly, defined by the magnitude of their conquests in relation to the size of the original mother country, Europe's greatest imperial powers were Portugal, Spain, the Netherlands, the UK and Russia. None seems to have drawn enduring economic benefit from its vast empire. Usually, the easy resources and glittering prizes of empire distorted economic life and distracted political attention.

Writing in 1909, Norman Angell argued (in his celebrated book, The Great Illusion) that "the wealth, prosperity and well-being of a nation depend in no way upon its political power; otherwise we should find the commercial prosperity and social well-being of the smaller nations, which exercise no political power, manifestly below that of the great nations which control Europe, whereas this is not the case." He concluded from this that the economic arguments for war then being advanced were both ludicrous and suicidal. The leaders of Europe promptly proved him tragically right.

Once again, Hong Kong's wealth demonstrates his point. The colony is prosperous, but powerless. Yet, as Angell would have pointed out, it cannot be plundered, because its wealth can only belong to the people who create it. All that a malevolent state can achieve is ruin. In modern conditions plunder is fruitless.

Thus an open world economy allows small countries to combine prosperity with self-government. It affords the wealth of empire without its burdens. And it offers the basis for mutually enriching and peaceful relations among nations.

This was the view of the classical British liberals in their struggle against the imperialists. Liberalism was right in principle, but imperialism triumphed politically. Bellicose international relations and territorial expansion always serve some interests, just as there are people who gain pleasure from belonging to a great power or sitting at the top table. But none of this has anything to do with securing a prosperous future for the peoples of the world.

Hong Kong is a small place. But it provides big lessons. It is neither a country's size nor its power that matters for its people's prosperity. All that is needed are honest government, modest taxes and liberal trade. These are more than the basis for prosperity. They are also the best way to secure harmony, at least among civilised states.

The State in a Changing World, World Development Report 1997 (New York: Oxford University Press, for the World Bank);

**Alberto Alesina, Enrico Spolaore and Romain Wacziarg, Economic Integration and Political Disintegration, Mimeo, 1997.